Ownership, Board Characteristics and Liquidity Creation: Evidence from Indian Banks

Abstract

Modern financial intermediation theory recognizes liquidity creation and risk transformation as important functions of banks. This paper attempts to study liquidity creation and investigate its relationship with ownership and board characteristics for Indian commercial banks from 2007-2008 to 2016-2017. This paper develops two broad measures of liquidity creation namely catfat and catnonfat. The catfat measure comprises of liquidity creation through on and off balance sheet activities by banks whereas catnonfat includes liquidity creation taking place through only on-balance sheet activities. These are widely recognized as broad (catfat) and narrow (catnonfat) measure of liquidity creation in the existing literature. This paper further examines whether ownership and board characteristics influences liquidity creation in commercial banks (public and private banks) in India. The results highlight that for the sample period, Indian banks, on an average, created liquidity on the basis of catfat measure and destroyed liquidity when catnonfat liquidity creation measure was used. New private sector banks (NPSBs) created greatest liquidity based on catfat measure followed by public sector banks and then by old private sector banks (OPSBs). Based on catnonfat measure public sector banks destroyed the least liquidity relative to NPSBs and OPSBs whereas OPSBs destroyed maximum liquidity when compared with public banks and NPSBs.

Board size reduced liquidity creation for NPSBs relative to public sector banks based on catfat measure. For the sample period board independence reduced liquidity creation for NPSBs and OPSBs relative to public sector banks based on catfat measure. Higher number of board meetings reduced liquidity creation for OPSBs based on catfat measure whereas it increased liquidity creation for NPSBs based on catnonfat measure. Greater gender diversity in NPSBs increased its liquidity creation based on catnonfat measure whereas it reduced liquidity creation for OPSBs based on catfat measure. Board structure had significant influence on liquidity creation process in Indian banks.

Keywords: liquidity creation, ownership, board characteristics, Indian commercial banks, catfat, catnonfat

JEL Classification: G20, G21